Between 50 and 60 per cent of people reaching retirement will continue to buy annuities for the next few years despite the impending pension reform rendering them optional, fund groups Schroders and Kames say.

Changes announced by Chancellor George Osborne this year mean that from April 2015 pension savers will be able to access some or all of their pension pot from the age of 55 without facing a 55 per cent tax hit for taking the full amount.

Kames CEO Martin Davis says while the lure of cash will be too much for some, “a significant rump of the market” will purchase an annuity owing to income requirements and a fear of the unknown among advisers and individual investors.

“For the first couple of years 60 per cent will stick with an annuity,” Davis says. “The vast number of people are not in the high earning group but are in the core mid ground and they will need income. Advisers have got to be very brave to say take it out and stick it on red. For the non-advised community it is as confusing as hell. People are risk averse if they are making their own mind up.”

However Davis adds that for some people an annuity will only be a part of their investment, and those people may be prepared to take a degree of risk with the remainder.

“It is that chunk of business that is significant,” Davis says. “Whatever section goes into a regular income piece, that will be the battleground. If it’s 20 per cent then that is a significant number of assets, and if it goes up to 30 per cent over three-to-five years, that is a really good place to be.”

Schroders’ head of UK retail Robin Stoakley says the annuities market, which is worth between £12-14bn a year, will “probably fall by 50 per cent”.

“Around £6-7bn a year won’t go into annuities, so where will it go?” Stoakley asks. “A lot will go into the bank as people are scared of annuities and want to pass their pensions on. A lot will also go into property and to pay off mortgages, which is not a bad way of using assets. Some will also go on buy to let, but the mean average pension pot is £35,000, so not many people will be able to do that. And it is inevitable that some people will blow their pension.”

Stoakley predicts around £3bn a year will find its way into mutual funds but adds that a large chunk will still end up in annuity providers’ pockets due to the cost of advice versus the size of the average pension pot.

“Annuity companies will still offer annuities but they will also give an alternative option of a fund, which a lot of people will take up,” he says.

“If people have a couple of pension pots of between £30-40,000, and an IFA charges £150 an hour for seven hours, a lot of people won’t be able to afford £1,000 on advice. Many people will take a sensible option from their pension provider. So £1.5-2bn could flow through to the rest of the mutual funds market, which is growth of around 10-15 per cent. This is interesting, it’s a nice development, but it’s not a game-changer.”